Friday, March 2, 2012

Capital required to grow

Normally a company able to achieve growth in its business/ profit via a few type of capital models.

1st, this type of companies possess pricing power, it able to generate more revenue by increase selling price, thus increase its profit. This type of companies do not required additional capital to grow its business. All the profits are able to return to shareholder. This is a fanta-bulous business.

2nd, this type of companies using its or part of its profit to grow its capacity. Some are able to grow by only retain less than half of its profit, excess cash will return to shareholder. Some are required by regulator to retain part of profit as business grow bigger, like bank. However there are some need to retain most of its cash flow just to expand business.

3rd, this type of companies using cash generated by its operation to buy other business. To them it is merely a capital game.

4th, this type of companies have to take debt or using using debt to grow their business. To them doing business, it is better to use other people money instead of own money. However excessive debt is showing more trouble ahead. The bigger a company grow, debt will escalating higher.

These are the reason how a company paying out dividend. Some investors are very happy because they are able to buy a growth company, however they are without consider the above. They told others that how their company able to grow year after year, especially when its share prices rally.

To me what is a big deal that a company that able to grow by taking debt and more debt.

17 comments:

  1. 1st, this type of companies possess pricing power, it able to generate more revenue by increase selling price, thus increase its profit. This type of companies do not required additional capital to grow its business. All the profits are able to return to shareholder. This is a fanta-bulous business.

    2哥,在马股里是否有这样的公司,能够给几个例子吗?

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  2. 应该是 monopoly 的公司吧?

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  3. Many people say things like “I’d love to get into the stock market” or “If I had more money, I’d invest in stocks”. Many people also believe that to make a profit from the stock market you either need to be rich already, be a full-time investment trader or be a financial whiz.

    Not necessarily so.

    Let’s take a look at three different scenarios of ordinary people in the stock market to see how they fared. This will let us view how the process works, the different approaches, and how returns are generated.

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  4. Thermofisher, the easier part is the theory. There are no such company at Bursa Malaysia. However, there are some companies that are able to increase profit consistently year after year although they paid out most of its profit. I find this is very interesting, such as DIGI, GAB & Nestle. Some only raise capital once in blue moon time, after that they paid out most of the profit, such as LPI. These group of companies posess a very good cash flow, most of the time their cash flow is higher that their reported net profit.

    For investor there are no thing that cast into the stone. Some companies like Public Bank and Hartalega are growing year after year with retained part of their profit. They did well. But you can not expect them to pay out all their profit as dividend.

    CIMB using M&A to grow, they also did well. Sometime it is cheaper to buy a company than set up your own, sometime is about synergy. Carlsberg buying Singapore operation is about profit enhancement and synergy.

    Some they are so happen that their industry is booming. KNM used to be a darling stock, but they took more debt to grow, finally business tide is turning against them, they have to paid the price of over leverage. LCL is prospering due to booming of Dubai, they took more debt, they also in trouble. Investors are happy if companies they vested able to increase profit year after year but without considering debt, or it is merely a cyclical boom. Swee Joo is another example, iCapital made a wrong call, Mr. Tan mis-judged it.

    A famous Malaysian investor, Mr. Koon is vested heavyly in Coastal. Yes, it profit is supreme, its compounding growth rate is among the top, it traded at very mouth-watering PE. Its managements are prudent, experience and hand-on. However I am not impress at all. Their profit is cyclical, there are no certain of future order, profit can drop sharply over night as order disappeared. The quality of profit is quite low. GAB PE at 20 is better than it. Hartalega PE 15 is superior than it. Public Bank PE at 13 is better than it. LPI PE at 19 is better than it.

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  5. About the growth types that you categorized, I'd like to share my experience.

    I owned some CIMB (type 3) and PBB (type 2) shares since year 2006~2007, and I can see that the rate of growth for PBB is way faster than CIMB, so I guess the M&A strategy for CIMB might not work so well compared to PBB's growth strategy.

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  6. 谢谢2哥的详细解释,这或许也解释了为何GAB, Nestle & Digi 的PE总是高高在上;我也对周期性强的企业有所避忌,因为要通过他们累计财富不太实际,所以目前的方向主要以消费股,金融股为主,此外,对举债过高的公司也要有所警惕,重视公司的素质比数字更重要。

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  7. 2ndbrother,

    What is your view on the plantation stocks in the small cap universe? Most companies have pretty good cashflow, pay out good dividends and strong balance sheet but investors seem to shy away from them after 2008.

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  8. Ong, I used to own CIMB. I first bought it in year 2003, first day of its IPO. If i hold it until today it is worth 800% more than the price i paid for it. So i not agreeable to what you said M&A is not work well for CIMB

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  9. Heineken, can you provide the name of the so called small, strong balance sheet, good cash flow and paying good dividend.

    In year 2008, I also used to believe that CPO going to be a complete industry due to biofuel. However i was wrong, it is still cyclical in nature. Plantation company is quite difficult to expand due to scarcity of land and pricing issue. A strong management also can't help much. Some players expand down stream. However the profit margin of this industry is very attractive.

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  10. Hi 2nd brother,

    The reason why i said so:

    Cimb bought 3 years ago @ RM5.5 (adjusted), now RM 7.5 (gained 34%), at that time EPS was 37 sen (adjusted) , PE was 14, now EPs= 54 sen and PE = 13

    PBBank bought 3.5 years ago @ RM6.6, now RM 13.6 (gained 104%) at that time EPS was 60 sen, so PE was 11, now EPS = 98 sen and PE = 13

    By comparing the results over these years, PPBank gained more for me, not to mention PBBANK also gave better dividends.

    As such I am seriously considering to change all my CIMB to PBBank for good. What is your comment comparing them from the qualitative side and which do you see brighter future, say, in another 10 years time?

    May I ask, if CIMB could gain you as high as 800%, what was the reason you sold it?

    Thanks

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  11. Ong, you have to look at the overall picture not part of it. 3.5 years ago, it was at the midst of the US financial crisis, you managed to buy Public Bank at very low price of 6.6, if i not mistaken this price only appeared for 1 day only. That time i also bought Public Bank but at 8.00++ not at your price. However if you managed to buy CIMB at low of 5.7-5.8, you would make more than PBB. The time you bought at 11++ was almost double from its low. Try to look at the complete picture as that time was highly fluctuated.

    I first sold my CIMB after they annouced to merged with Bumiputra Commerce Bank (BCB), i sold it because i did not believe Nazir will manage to turnaround BCB. Therefore i sold it after making 200% return on my investment.

    Seem like you not follow how CIMB evolved from investment bank to universal bank.

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  12. Two small cap plantation companies which I have studied but not taken a position are TDM and KFIMA. Competent management, no debt, and big cash flow. Mass utility of CPO in biofuel is still a bit premature, IMHO. This development is something that is bound to happen in the future. Nevertheless, looking at what we have now, plantation companies enjoy very high margin from their operations in the last 2 to 3 years. The price of CPO is cyclical in the last decade. The last down cycle for this commodity is during the financial crisis which recovered quite fast to its "high" territory.

    The situation in the plantation stocks right now is quite similar to the gold mining stocks in the US. They have high margin, high cash flow, flawless balance sheet but undervalued. The only reason I can think of why these stocks are undervalued is because investors are worried about the sustainability of the price of the commodities and thus, discounting the concern in the share price of these companies.

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  13. 谢谢二哥的解释看法cimb我从6 块 持到现在
    但是卖出50% 剩下免费的

    江湖

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  14. 二哥,能不能请问你怎么看待padini和bonia进军饮食业

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  15. seems like QL is not 2nd brother cup of tea
    looking forward for next article

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  16. 2ndbrother,

    Are you going to share with us your property investing experiences? I think many readers would be eager to learn from you.

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